Helping Europe's Households

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Helping Europe's Households

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Bibliographic details

• Authors: OYA CELASUN, DORA IAKOVA
• Published: December 1, 2022

Energy price shock and household impact

• Wholesale prices for natural gas were on average seven-and-a-half times higher in the summer of 2022 than they were in early 2021.
• Even after falling from end-summer highs, wholesale gas prices remain well above early 2021 levels and could rise again ahead of the 2023–24 winter.
• There have been steep rises in the cost of coal and crude oil.
• IMF staff estimate high energy prices have raised the cost of living for the average European household by about 7 percent this year relative to early 2021.
• Futures contracts suggest prices will stay above pre-invasion levels for the foreseeable future.

Risks of suppressing price signals

• Efforts to suppress pass-through from wholesale to retail prices (price caps, rebates, tax reductions, reduced fees/charges) risk:
  • Causing consumers to reduce consumption only marginally while global prices rise further because supply is limited.
  • Increasing fiscal costs and reducing domestic protection effectiveness.
  • Transmitting higher prices and hardship internationally.
• Broad-based, untargeted household relief tends to add to aggregate demand and complicate the fight against inflation.

Europe’s policy response so far

• Nearly all countries have adopted measures that mute price signals, including capping retail energy prices or reducing fees, charges, and taxes (examples listed: Austria, Italy, France, Germany, Portugal, Spain, United Kingdom).
• In some countries the fiscal cost of the energy crisis response is set to exceed 1.5 percent of GDP in the first year alone—with more than half of that in costly non-targeted measures.
• Some countries use blanket measures (fuel subsidies, universal energy vouchers); countries with highly regulated retail tariffs (Hungary, Malta) allow very little or no pass-through to consumers.
• Examples of measures that do not interfere with price signals:
  • Progressive or uniform lump-sum transfers (Cyprus and Germany, respectively).
  • Lump-sum transfers to lower-income households that are neither covered by a “minimum vital income” benefit nor receiving a pension (Spain).
  • Lump-sum rebates on energy bills with a clawback through the tax system for those with higher incomes (Belgium, Germany).
  • Expansion of existing lump-sum social assistance programs to more households (Belgium, Germany, Luxembourg).
  • Block pricing implemented or announced in several countries.

First-best policy recommended

• Let price signals operate and provide lump-sum transfers to vulnerable households.
• IMF staff estimate fully compensating the bottom 40 percent of Europe’s households for the surge in the price of energy since early 2021 would cost:
  • 0.9 percent of GDP in 2022
  • 1.2 percent of GDP in 2023
• These costs are about half the average cost of Europe’s current policies.
• Support should ideally taper off gradually at higher income levels.

Second-best practical options

• Where rapid targeted income transfers are difficult, feasible approaches include:
  • Extending transfers quickly to households already receiving social benefits.
  • Sending bank transfers or checks based on income tax information or encouraging households to sign up and provide income information (limited by data privacy and capacity constraints).
  • Providing a uniform lump-sum rebate on energy bills or a lump-sum check unrelated to bills; additional transfers to the poorest via welfare systems; reclaiming support to higher-income households through the tax system.
  • Block pricing: discounted price up to a subsistence level and market price above it; subsistence consumption could be uniform or set as a fraction of recent consumption.
  • Complement block pricing with progressive tax measures to claw back support to higher-income households.
  • Auctions to pay users (households or firms) to reduce energy consumption or shift it to times with greater renewable supply; large-scale European-level auctions could reduce overall demand and lower global energy prices (Germany considering auctions for energy savings by firms).

Policy guidance and long-run priorities

• Shift emphasis from price-suppressing measures to income relief targeted to the vulnerable.
• Provide strong incentives to save energy and switch out of fossil fuels while containing fiscal costs.
• Relief should be provided within a non-expansionary fiscal stance so as not to add to aggregate demand in the high-inflation environment.
• In the longer run, increasing the supply of non-fossil-fuel energy sources is the most reliable way to bring energy prices down and ensure energy security.
• Maintaining clear price signals will help the transition away from fossil fuels.

Helping Europe's Households, F&D Magazine, December 2022. OYA CELASUN; DORA IAKOVA.

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